Common costs refer to the cost of resources used by multiple divisions, departments, or another

Common costs refer to the cost of resources used by multiple divisions, departments, or another type of grouping. These types of overhead costs are not only incurred within a profit center, but in many other parts of the organization. One example is overhead or common fixed costs for distribution and client support. We’re using the latter for some hands-on experience in allocating common costs and analyzing the implications for T&M. Information follows below.

Towels & More (T&M) is a small family company that produces and sells towels. T&M sells the towels to three types of stores: major retailers, specialty retailers and gift shops. The company is doing well and the CEO wants to expand the business. The contribution margin ratio is the highest for the small gift shops, so the CEO feels that those are the type of retail outlets to pursue.

Below find T&M’s income statement for last year.

Towels & More

For the year ended 12-31-XX

Sales

$600,000

Variable Production Costs

180,000

Contribution Margin

$420,000

Fixed Costs:

Production Overhead

$120,000

Selling & Distribution Costs

240,000

$360,000

Net Operating Income

$60,000

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Customer support & distribution costs are pretty high at T&M. The total amount was $240,000 last year. The marketing manager has recently been to a seminar and learned about applying ABC to analyze customer and distribution costs. He suggests that the company analyze overhead costs associated with supporting different types of customers before proceeding with an expansion. The marketing manager knows that the small shops require a lot of attention and is somewhat dubious about the CEO’s proposed strategy. The CEO accepts the suggestion and you are brought in as a consultant to prepare the analysis. The table below provides some information that may be pertinent for the analysis.

Description

Customer Support & Distribution Costs

Department Stores

Specialty Shops

Gift Shops

Activity Level

Activity Level

Activity Level

Sales (units)

10,000

5,000

5,000

Revenues

$200,000

$100,000

$300,000

Contribution margin ratio

50%

80%

80%

No. of customers

5

45

250

Total costs/No. of orders places

$40,000

10

90

900

Total costs/No. of sales calls

$80,000

5

195

800

Total costs/No. of shipments

$120,000

20

480

1,000

Note that the contribution margin ratio varies due to different quality of towels sold to the stores.

Required:

Computations (use Excel).

Calculate the customer support and distribution costs associated with the three types of customers.

Use a simple strategy first and allocate the costs based on revenues.

Recalculate the allocations using activity based costing (ABC) based on the information in the table above.

Determine contribution margin less customer support and distribution costs for both approaches above.

Memo (use Word).

Which type of customer should the company support and why? Refer to your analysis in your response. Write a four or five paragraph memo to the owner of the business. Start with an introduction and end with a recommendation. Each of the four or five paragraphs should have a heading.

Short essay (use Word).

Read the background information and do additional research as needed to comment on the following topics.

What are the characteristics of companies that may benefit from an ABC allocation system?

Start with an introduction and end with a summary or conclusion. Use headings. Maximum length of two pages.

Assignment Expectations

Each submission should include two files: (1) An Excel file; and (2) A Word document. The Word document shows the memo first and short essay last. Assume a knowledgeable business audience and use required format and length. Individuals in business are busy and want information presented in an organized and concise manner.